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Bankruptcy: The danger of over-reaching your resources

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Going bust is the fate which businessmen most fear. Paradoxically, though, you can be too fearful. Avoiding risk can also mean missing opportunity. The trouble is that opportunists have big ideas - and their reach can easily exceed their grasp.

In consequence, many of today's rich and respected businesses once teetered on the brink. You could hope to avoid over-reaching by launching a 'bootstrap' operation, and growing organically only as fast as resources will allow. That option was considered by Christopher Ward and Michael Potter when they set up Redwood Publishing in 1983.

Instead Ward, ex-editor of the Daily Express, and Potter, ex-Haymarket Publishing, chose to raise capital and run as hard and fast as they could. They argued that it's better to seek 40% of a mountain than 100% of a molehill, and quickly established a reputation for publishing high-quality magazines under contract for customers like American Express and Marks & Spencer.

That delighted the venture capital financiers - but they were far less enthralled by large early losses. Crisis arrived just before one Christmas (the traditional season of good cheer and sackings). The financiers decided to pull the plug - no more money unless the bank first guaranteed the overdraft. The bank was happy do do so, but only, of course, if the financiers first provided more finance - Catch 22.

At the last gasp, Ward remembered meeting a more amiable banker on a trip to the champagne house, Veuve Cliquot. After seeing the partners at very short notice, the banker broke the vicious circle by giving the necessary guarantee. But Redwood wasn't out of trouble - one magazine, Airport, distributed free at airports, was an idea so flawed that losses eventually totalled £500,000.

Ward was miserably contemplating Airport's demise when an American entrepreneur, passing time between flights, rang from Heathrow for a chat. Hearing the news, he told Ward to hold everything, caught a cab into town, bought the magazine, and pumped some extra finance into Redwood for good measure.

After passing through the hands of the BBC, then back to the partners, Redwood was bought by Abbott Mead Vickers for £12.5 million. That's a tribute to the firm's basic strength - the consistently high quality of its products in an expanding market - and the persistence of the partners. But without proper, permanent financing, Redwood would still have been felled.

Over-reaching your resources is the classic cause of bankruptcy; whether it takes the form of under-capitalisation (you haven't obtained enough equity or loan capital) or over-trading (you're taking on more business than you can finance), the result's the same. You simply run out of cash. But most over-reachers compound their troubles by errors on other fronts (like Airport).

Direct mail consultant Drayton Bird, whose latest success with Drayton Bird Direct was recently recounted in this column, remembers in excruciating detail why his first business flight plunged to earth. First, he was over-reaching - he was in seven different businesses at once: worse still, nobody told him to keep his various interests separate.

He lumped them together, and the most addled business, over-trading like mad, pulled the whole lot down. That disaster was predictable, given that Bird hadn't planned for anything at all, let alone the worst. Like many entrepreneurs (and not just in their first forays), he and his partner were seriously over-optimistic.

That's an occupational hazard. No entrepreneur plans for failure, and high hopes easily get converted into excessive targets. Bird hadn't played the essential game known as 'Best World, Worst World', in which you put down on paper your estimate of the worst that could possibly happen, and of the best that you've envisaged in your wildest dreams.

Either worst or best could stretch the finances beyond breaking point. The analysis establishes what risks you are running, and what crises you need to forestall, if you can. Sensible planning helps to avert a Redwood-type crisis, and avoid a Bird-like crash. All the same, applying a modicum of caution can't wholly remove the risks of choosing high ambitions.

Today, the Redwood partners, very understandably, are absolutely sure that their choice was right. That's hindsight; but they were always right. As good poker players know, scared money never wins.

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